PSA 265, Communicating Internal Control Deficiencies to Those Charged with

Governance and Management

PSA 450, Evaluating Misstatement Identified in the Audit

PSA 402, Audit Considerations Relating to an Entity using a Service Organization

Internal Control Components (PSA 315)

CRIME

(a) The control environment - entity-level controls; foundation of internal control; CHOPPER
(b) The entity/mgmt’s risk assessment process;
(c) The information system, including the related business processes, relevant to financial
reporting, and communication;
(d) Control activities - specific transaction-level controls;
(e) Monitoring of controls.

Control environment - includes the attitudes, awareness, and actions of management and those
charged with governance concerning the entity’s internal control and its importance in the entity.

The control environment also includes the governance and management functions and sets the
tone of an organization, influencing the control consciousness of its people.

It is the foundation for effective internal control, providing discipline and structure.

The control environment encompasses the following elements:

• Communication and enforcement of integrity and ethical values.

• Commitment to competence.
• Participation by those charged with governance.
• Management’s philosophy and operating style.
• Organizational structure.
• Assignment of authority and responsibility.
• Human resource policies and practices.

CHOPPER
Entity’s risk assessment process - its process for identifying and responding to business risks and
the results thereof.

For financial reporting purposes, the entity’s risk assessment process includes how management
identifies risks relevant to the preparation of financial statements that are presented fairly, in all
material respects in accordance with the entity’s applicable financial reporting framework,
estimates their significance, assesses the likelihood of their occurrence, and decides upon actions
to manage them.

* MGMT HAS NO RISK ASSESSMENT PROCESS - significant control deficiency that should
be communicated to TCWG.

Risks can arise or change due to circumstances such as the following:

• Changes in operating environment. Changes in the regulatory or operating environment can

result in changes in competitive pressures and significantly different risks.
• New personnel. New personnel may have a different focus on or understanding of internal
control. • New or revamped information systems. Significant and rapid changes in information
systems can change the risk relating to internal control.
• Rapid growth. Significant and rapid expansion of operations can strain controls and increase
the risk of a breakdown in controls.
• New technology. Incorporating new technologies into production processes or information
systems may change the risk associated with internal control.
• New business models, products, or activities. Entering into business areas or transactions with
which an entity has little experience may introduce new risks associated with internal control.
• Corporate restructurings. Restructurings may be accompanied by staff reductions and changes
in supervision and segregation of duties that may change the risk associated with internal control.
• Expanded foreign operations. The expansion or acquisition of foreign operations carries new
and often unique risks that may affect internal control, for example, additional or changed risks
from foreign currency transactions.
• New accounting pronouncements. Adoption of new accounting principles or changing
accounting principles may affect risks in preparing financial statements.

IFRS 17/15/9-expected credit loss

* these raises the possibility of errors in the FS

Information system, including the related business processes, relevant to financial

reporting, and communication - An information system consists of infrastructure (physical
and hardware components), software, people, procedures, and data. Infrastructure and software
will be absent, or have less significance, in systems that are exclusively or primarily manual.

The information system relevant to financial reporting objectives, which includes the financial
reporting system, consists of the procedures and records established to initiate, record, process,
and report entity transactions (as well as events and conditions) and to maintain accountability
for the related assets, liabilities, and equity.
Accordingly, an information system encompasses methods and records that:

• Identify and record all valid transactions. - no omissions of valid transactions

• Describe on a timely basis the transactions in sufficient detail to permit proper classification of
transactions for financial reporting.
• Measure the value of transactions in a manner that permits recording their proper monetary
value in the financial statements.
• Determine the time period in which transactions occurred to permit recording of transactions in
the proper accounting period.
• Present properly the transactions and related disclosures in the financial statements.

Communication involves providing an understanding of individual roles and responsibilities

pertaining to internal control over financial reporting. It includes the extent to which personnel
understand how their activities in the financial reporting information system relate to the work of
others and the means of reporting exceptions to an appropriate higher level within the entity.

Open communication channels help ensure that exceptions are reported and acted on.

Control activities - are the policies and procedures that help ensure that management
directives are carried out, for example, that necessary actions are taken to address risks that
threaten the achievement of the entity’s objectives.

Generally, control activities that may be relevant to an audit may be categorized as policies and
procedures that pertain to the following:
• Performance reviews.
• Information processing.
• Physical controls.
• Segregation of duties. - Authorization Recording Custody

Monitoring of controls - Management’s monitoring of controls includes considering whether

they are operating as intended and that they are modified as appropriate for changes in
conditions. Monitoring of controls may include activities such as management’s review of
whether bank reconciliations are being prepared on a timely basis, internal auditors’ evaluation
of sales personnel’s compliance with the entity’s policies on terms of sales contracts, and a legal
department’s oversight of compliance with the entity’s ethical or business practice policies.

Procedures in Obtaining Understanding of Internal Control

1. Make inquiries of appropriate company personnel

2. Inspect documents and records - internal control manual of procedures
3. Observe the company’s activities and operations
4. Walk-through

1. According to PSAs, which of the following is correct regarding internal control system?
a. Internal control system refers to all the policies and procedures adopted by the auditor to assist
in achieving management’s objective.
b. False/you need specific control activities=A strong control environment, by itself, ensure the
effectiveness of the internal control system.
c. In the audit of financial statements, the auditor is only concerned with those policies and
procedures within the accounting and internal control systems that are relevant to the financial
statements.
d. The internal control system is confined to those matters which relate directly to the functions
of the accounting system.

2. Which of the following is correct about internal control?

a. Accounting and internal control systems provide management with conclusive evidence that
objectives are reached.
b. One of the inherent limitations of accounting and internal control systems is the possibility
that the procedures may become inadequate (obsolete) due to changes in conditions, and
compliance with procedures may deteriorate.
c. Most internal controls tend to be directed at non-routine transactions.
d. Management does not consider costs of the accounting and internal control systems.

3. Corporate directors, management, external auditors, and internal auditors all play important
roles in creating a proper control environment. Top management is primarily responsible for
a. Establishing a proper control environment and specifying overall internal control.
b. Reviewing the reliability and integrity of financial information and the means used to collect
and report such information.
c. Ensuring that external and internal auditors adequately monitor the control environment.
d. Implementing and monitoring controls designed by the board of directors.

4. Which of the following best describe the interrelated components of internal control?
a. Organizational structure, management philosophy, and planning.
b. Control environment, risk assessment, control activities, information and communication
systems, and monitoring-CRIME (315/COSO).
c. Risk assessment, backup facilities, responsibility accounting and natural laws.
d. Legal environment of the firm, management philosophy, and organizational structure.

5. In an audit of financial statements, an auditor’s primary consideration regarding a control is

whether it
a. Reflects management’s philosophy and operating style.
b. Affects management’s financial statement assertions. What ensures that all sales are recorded?
And at proper amounts? What ensures that no fictitious purchases enter the acctg system?
c. Provides adequate safeguards over access to assets.
d. Enhances management’s decision-making processes.

6. Effective internal control

a. FALSE-Eliminates risk and potential loss to the organization.
b. FALSE-Cannot be circumvented by management-mgmt override is one of the inherent
limitations of IC.
c. FALSE-Is unaffected by changing circumstances and conditions encountered by the
organization.
d. Reduces the need for management to review exception reports on a day-to-day basis.

7. Which of the following statements about internal control is correct?

.

a. Properly maintained internal controls reasonably assure that collusion among employees
cannot occur. - collusion or connivance is one of the inherent limitations of internal control
b. Establishing and maintaining internal control is the internal auditor’s responsibility.
c. Exceptionally strong control allows the auditor to eliminate substantive tests.
d. The cost-benefit relationship should be considered in designing internal control.

8. The ultimate purpose of assessing control risk is to contribute to the auditor’s evaluation of the
risk that
a. Tests of controls may fail to identify controls relevant to assertions.
b. Material misstatements may exist in the financial statements.
c. Specified controls requiring segregation of duties may be circumvented by collusion.
d. Entity policies may be overridden by senior management.

9. Audit evidence concerning segregation of duties ordinarily is best obtained by

a. Performing tests of transactions that corroborate management’s financial statement assertions
b. Observing the employees as they apply specific controls.
c. Obtaining a flowchart of activities performed by available personnel.
d. Developing audit objectives that reduce control risk.

10. Which of the following statements about preliminary assessment of control risks is correct?
a. After obtaining an understanding of the accounting and internal control systems, the auditor
should make a preliminary assessment of control risks, at the assertion level, for all accounts or
transaction classes.
b. False-The preliminary assessment of control risk can be done only after completing tests of
controls.
c. The preliminary assessment of control risk for a financial assertion is normally low, unless the
auditor is able to identify weaknesses that may indicate ineffectiveness of accounting and
internal control system.
d. The auditor ordinarily assesses control risk at high level for some or all assertions when it is
not cost efficient to do tests of controls=PPE only 3 transactions during the year.
11. Which of the following statements concerning control risk is correct?
a. When control risk is at the maximum (HIGH) level, an auditor is required to document the
basis for that assessment. - if auditor assesses CR AT HIGH LEVEL, no need to document the
BASIS..

If auditor assesses CR at a low level, there is a need to document the basis of the low CR
assessment=document test of control results in the audit working paper…

* less detailed substative test (high detection risk)

b. Control risk may be assessed sufficiently low to eliminate substantive testing for significant
transaction classes.
c. When assessing control risk, an auditor should not consider evidence obtained in prior audits
about the operation of controls.
d. Assessing control risk and obtaining an understanding of an entity’s internal control may be
performed concurrently.

12. Based on a consideration of internal control completed at an interim date, the auditor
assessed control risk at a low level and performed interim substantive tests. The records and
procedures would most likely be tested again at year-end if
a. Tests of controls were not performed by the internal auditor during the remaining period.
b. Internal control provides a basis for limiting the extent of substantive testing.
c. The auditor used nonstatistical sampling during the interim period testing of controls.
d. Inquiries and observations lead the auditor to believe that conditions have changed.
13. After obtaining an understanding of internal control and assessing control risk, an auditor
decided not to perform additional tests of controls. The auditor most likely concluded that the
a. Additional evidence to support a further reduction in control risk was not cost-beneficial to
obtain. b. Assessed level of inherent risk exceeded the assessed level of control risk.
b. Internal control was properly designed and justifiably may be relied on.
d. Evidence obtainable through tests of controls would not support an increased assessment of
control risk.

14. The objective of tests of details of transactions performed as tests of controls is to

a. Monitor the design and use of entity documents such as prenumbered shipping form
b. Determine whether controls have been placed in operation.
c. Detect material misstatements in the account balances of the financial statements.
d. Evaluate whether controls operated effectively.

15. Which of the following would not be a method used to conduct tests of controls?
a. Inquiry
b. Walkthrough
c. Confirmation - substantive - amount if correct
d. Observation

16. The auditor is examining copies of sales invoices only for the initials of the person
responsible for checking the extensions. This is an example of a
a. Test of controls
b. Dual purpose test
c. Substantive test
d. Test of balances

17. Which of the following procedures concerning accounts receivable is an auditor most likely
to perform to obtain evidential matter in support of an assessed level of control risk below the
maximum level?
a. Sending confirmation requests to an entity’s principal customers to verify the existence of
accounts receivable.
b. Inspecting an entity’s analysis of accounts receivable for unusual balances.
c. Comparing an entity’s uncollectible accounts expense to actual uncollectible accounts
receivable.
d. Observing an entity’s employee prepare the schedule of past due accounts receivable.

18. An auditor is least likely to test controls that provide for

a. Classification of revenue and expense transactions by product line - operating segments
b. Approval of the purchase and sale of trading securities
c. Segregation of the functions of recording disbursements and reconciling the bank account
d. Comparison of receiving reports and vendors’ invoices with purchase orders
19. In a small company that doesn't employ an adequate number of employees to permit proper
division of responsibilities, effective internal control can be strengthened by
a. Compensating control-Direct participation by the owner of the business in the record keeping
activities of the business.
b. Employment of temporary personnel to aid in the separation of duties.
c. Delegation of full, clear-cut responsibility to each employee for the functions assigned to each.
d. Engaging a CPA to perform monthly "write up" work.

20. Which of the following is true of the communication to TCWG/management of material

weaknesses in accounting and internal control?
a. Communication must be in writing.
b. Oral communication of material weaknesses, when appropriate, would be documented in the
audit working papers.
c. The communication should indicate that the auditor had extensively examined the accounting
and internal control system of the client.
d. The auditors should indicate in the communication that the examination is primarily designed
to determine whether the accounting and internal control is adequate.

SUBSTANTIVE AUDIT PROCEDURES AND EVIDENCE

1. An auditor most likely would limit substantive audit tests of sales transactions when control
risk is assessed as low for the occurrence assertion concerning sales transactions and the auditor
has already gathered evidence supporting
A. Opening and closing inventory balances.
B. Cash receipts and accounts receivable
C. Shipping and receiving activities.
D. Cutoffs of sales and purchases.
2. A cash shortage may be concealed by transporting funds from one location to another or by
converting negotiable assets to cash. Because of this, which of the following is vital?
A. Simultaneous confirmations.
B. Simultaneous bank reconciliations.
C. Simultaneous verification. -more complete than letter D..
D. Simultaneous surprise cash count.

3. Confirmation is most likely to be a relevant form of evidence with regard to assertions about
accounts receivable when the auditor has concerns about the receivables’
A. Valuation.
B. Classification.
C. Existence.
D. Completeness.

4. Tracing recorded sales transactions in the sales journal to the shipping documents (bills of
lading) provides evidence about the: 
A. Completeness of recording of sales transactions.
B. Occurrence of sales transactions.
C. Billing of all sales transactions.
D. Presentation of payables.
5. Which of the following might be detected by an auditor’s review and analysis of the entity’s
sales cutoff test procedures?
A. unrecorded sales discounts
B. inflated sales for the year - sales of Jan next year recorded Dec of this year
C. lapping of accounts receivable
D. excessive goods returned for credit

6. The auditors' count of the client's cash should be coordinated to coincide with the: 
A. Consideration of the internal controls with respect to cash.
B. Close of business on the balance sheet date.
C. Count of investment securities.
D. Count of inventories.

7. What type of error is the CPA most likely to discover when he/she examines all shipping
reports dated in January of 20X1, shipped FOB shipping point, which were recorded in
December of 20X0 as credit sales? 
A. Accounts receivable are overstated at December 31, 20X0.
B. Accounts receivable are understated at December 31, 20X0.
C. Operating expenses are overstated for the 12 months ended December 31, 20X0.
D. Sales returns and allowance are overstated at December 31, 20X0.

8.  An audit basically consists of having the auditor form an opinion regarding management's
financial statement assertions. The auditor therefore develops general and specific program steps
to apply to the accounts and transactions. In a particular case, s/he might do this by: 
A. Tracing sales invoices to shipping documents to tests the completeness of reported sales.
B. Tracing shipping documents to sales invoices to test the occurrence of reported sales.
C. Tracing sales invoices to shipping documents to test the occurrence of reported sales.
D. Tracing sales invoices to shipping documents (occurrence, not completeness) to test the
completeness of recorded accounts
receivable.

9. In which of the following circumstances would the use of the negative form (customer of
client will only reply if he or she disagrees with the balance) of accounts receivable confirmation
most likely be justified?
A. A substantial number of accounts may be in dispute and the accounts receivable balance
arises from sales to a few major customers.
B. A substantial number of accounts may be in dispute and the accounts receivable balance arises
from sales to many customers with small balances.
C. A small number of accounts may be in dispute and the accounts receivable balance arises
from sales to a few major customers.
D. A small number of accounts may be in dispute and the accounts receivable balance arises
from sales to many customers with small balances.

10. An auditor has accounted for a sequence of inventory tags and is now going to trace
information on a representative number of tags to the inventory summary sheets. Which assertion
does this procedure relate to most directly? 
A. Completeness.
B. Existence.
C. Legality.
D. Valuation.
11. If the auditor is unable to attend physical inventory counting due to unforeseen
circumstances, he or she
A. shall observe the physical count on an interim date, without performing audit procedures on
intervening transactions, if control risk is low.
B. shall observe the physical count on an interim date if control risk is low, and perform audit
procedures on intervening transactions.
C. Is never allowed to perform inventory count observation on an interim date.
D. shall automatically modify the audit opinion due to scope limitation.

12. An auditor most likely would make inquiries of production and sales personnel concerning
possible obsolete or slow-moving inventory to support management’s financial statement
assertion of
A. Valuation. =impairment loss? Recorded by client?
B. Rights.
C. Existence.
D. Presentation.

13. Which of the following procedures would an auditor most likely perform in searching for
unrecorded liabilities?
A. Trace a sample of accounts payable entries recorded just before year-end to the unmatched
receiving report file.
B. Compare a sample of purchase orders issued just after year-end with the year-end accounts
payable trial balances.
C. Vouch a sample of cash disbursements recorded just after year-end to receiving reports and
vendor invoices.
D. Scan the cash disbursements entries recorded just before year-end for indications of unusual
transactions.
14. Auditor confirmation of accounts payable balances at the balance sheet date may be
unnecessary because
A. This is a duplication of cutoff tests.
B. Accounts payable balances at the balance sheet date may not be paid before the audit is
completed.
C. Correspondence with the audit client’s attorney will reveal all legal action by vendors for
nonpayment.
D. There is likely to be other reliable external evidence (free: statement of account of the
supplier) to support the balances. W/o sending confirmation

15. In auditing accounts payable, an auditor’s procedures most likely would focus primarily on
management’s assertion of
A. Existence.
B. Presentation and disclosure.
C. Completeness.
D. Valuation.

16. Which of the following best describes the auditors' approach to the audit of accrued liabilities
(e.g. interest payable)? 
A. Test computations/recalculation.
B. Confirmation.
C. Observation.
D. A low planned assessed level of control risk.
17. In testing for unrecorded retirements of equipment, an auditor might. 
A. Select items of equipment from the accounting records and then attempt to locate them during
the plant tour.
B. Compare depreciation expense with the prior year's depreciation expense.
C. Trace equipment items observed during the plant tour to the equipment subsidiary ledger.
D. Scan the general journal for unusual equipment retirements. 

18. A plant manager would be most likely to provide information on which of the following? 
A. Adequacy of the provision for uncollectible accounts.
B. Appropriateness of physical inventory valuation techniques.
C. Existence of obsolete inventory.
D. Deferral of certain purchases of office supplies.
19. Which of the following best describes the auditors' approach to the audit of the ending
balance of property, plant and equipment for a continuing nonpublic client? 
A. Direct audit of the ending balance.
B. Agreement of the beginning balance to prior year's working papers and audit of significant
changes in the accounts.
C. Audit of changes in the accounts since inception of the company.
D. Audit of selected purchases and retirements for the last few years.

20. Which of the following is used to obtain evidence that the client's equipment accounts are not
understated? 
A. Analyzing repairs and maintenance expense accounts.
B. Vouching purchases of plant and equipment.
C. Recomputing depreciation expense.
D. Analyzing the miscellaneous revenue account.

21. Which of the following is a customary audit procedure for the verification of the legal
ownership of real property?  Rights & obligations assertion
A. Examination of correspondence with the corporate counsel concerning acquisition matters.
B. Examination of ownership documents registered and on file at a public hall of records.
C. Examination of corporate minutes and resolutions concerning the approval to acquire
property, plant and equipment.
D. Examination of deeds and title (land titles) guaranty policies on hand.
22. An auditor analyzes repairs and maintenance accounts primarily to obtain evidence in
support of the audit assertion that all
A. Noncapitalizable expenditures for repairs and maintenance have been recorded in the proper
period. Xxx cutiff
B. Expenditures for property and equipment have been recorded in the proper period. cutoff
C. Noncapitalizable expenditures for repairs and maintenance have been properly charged to
expense.
D. Expenditures for property and equipment have not been charged to expense.

23. The most likely technique for the current year audit of goodwill which was acquired three
years ago by a continuing audit client: 
A. Confirmation.
B. Observation.
C. Recomputation.
D. Inquiry.

24. In establishing the existence and ownership of a long-term investment in the form of publicly
traded stock, an auditor should inspect the securities or
A. Correspond with the investee company to verify the number of shares owned.
B. Inspect the audited financial statements of the investee company.
C. Confirm the number of shares owned that are held by an independent custodian.
D. Determine that the investment is carried at the lower of cost or market.
25. When an auditor is unable to inspect and count a client’s investment securities until after the
balance sheet date, the bank where the securities are held in a safe-deposit box should be asked
to
A. Verify any differences between the contents of the box and the balances in the client’s
subsidiary ledger.
B. Provide a list of securities added and removed from the box between the balance sheet date
and the security-count date.
C. Confirm that there has been no access to the box between the balance sheet date and the
security-count date.
D. Count the securities in the box so the auditor will have an independent direct verification.

26. An entity (lessee) leased an asset and appropriately used PFRS 16. The auditor should
determine
A. Not necessarily=whether the sum of the minimum lease payments equals the fair value of
the property
B. that the cost recorded by the entity is the cost of the property to the lessor
C. that the discount rate used in calculating the present value of the lease payments is the
entity’s (lessee) weighted average cost of capital
D. whether the interest rate used in computing the present value of the minimum lease
payments is the interest rate implicit (lessor’s IRR) in the lease. - incremental borrowing
if implicit rate is not available

27. An entity leased an asset and therefore used PFRS 16. What is the first step of the auditor?
A. Determine whether the sum of the minimum lease payments equals the fair value of the
property
B. Determine the present value of the minimum lease payments
C. Determine whether the entity used the appropriate discount rate
D. Determine whether the contract is a lease or contains a lease - is there an identified asset?
28. Which of the following sets of information does an auditor usually confirm on one form?
A. Accounts payable and purchase commitments.
B. Cash in bank and collateral for loans. - standard bank confirmation
C. Inventory on consignment and contingent liabilities.
D. Accounts receivable and accrued interest receivable.

29. When a CPA observes that the recorded interest expense seems to be excessive in relation to
the balance in the bonds payable account, the CPA might suspect that
A. Discount on bonds payable is understated.
B. Bonds payable are understated.
C. Bonds payable are overstated.
D. Premium on bonds payable is overstated.

30. An auditor most likely would inspect loan agreements under which an entity’s inventories are
pledged to support management’s financial statement assertion of
A. Presentation and disclosure.
B. Valuation or allocation.
C. Existence or occurrence.
D. Completeness.
31. In auditing long-term bonds payable, an auditor most likely would
A. Perform analytical procedures on the bond premium and discount accounts.
B. Examine documentation of assets purchased with bond proceeds for liens.
C. Compare interest expense with the bond payable amount for reasonableness.
D. Confirm the existence of individual bond holders at year-end.

32. Which of the following most likely would approve the issuance of notes payable? 
A. Controller.
B. Payroll.
C. Personnel.
D. Treasurer.

In real life, BOD

33. A bond trust indenture is the contractual agreement between the bondholders and issuing
company. In an audit of bonds payable, an auditor expects the trust indenture to include
A. Ok-Effective yield of the bonds issued
B. Ok-Issuing company’s debt-to-equity ratio at the time of issuance
C. Forecasted debt-to-equity ratio of the issuing company
D. Interest rate and interest payment dates

34. An auditor usually obtains evidence of stockholders’ equity transactions (declaration of

dividends by the BOD) by reviewing the entity’s
A. Minutes of board of directors meetings.
B. Transfer agent’s records.
C. Canceled stock certificates.
D. Treasury stock certificate book.

35. In performing tests concerning the granting of stock options, an auditor should
A. Confirm the transaction with the Securities and Exchange Commission.
B. Verify the existence of option holders in the entity’s payroll records or stock ledgers.
C. Determine that sufficient treasury stock is available to cover any new stock issued.
D. Trace the authorization for the transaction to a vote of the board of directors.

36. During an audit of an entity’s stockholders’ equity accounts, the auditor determines whether
there are restrictions on retained earnings (company is restrcited by the creditor-bank from
declaring dividends) resulting from loans, agreements, or state law. This audit procedure most
likely is intended to verify management’s assertion of
A. Existence or occurrence.
B. Completeness.
C. Valuation or allocation.
D. Presentation and disclosure.

37. In the audit of a small and medium-sized entity, which one of the following areas can be
expected to require the least amount of audit time?
A. Liabilities
B. Equity - sole proprietorship = Mr X, capital
C. Assets
D. Revenue
38. When a client company does not maintain its own stock records, the auditor should obtain
written confirmation from the transfer agent and registrar concerning
A. Restrictions on the payment of dividends-di ko alam.
B. The number of shares issued and outstanding.
C. Guarantees of preferred stock liquidation value.-di ko alam
D. The number of shares subject to agreements to repurchase-care ko.

39. Which of the following is an auditor most likely to confirm from the transfer agent and
registrar? 
A. Total shares of stock issued.
B. Restrictions on the payment of dividends.
C. Total market value of outstanding shares of stock.
D. Gains from sale of treasury stock.

40. When auditing related party transactions, the auditor places primary emphasis on
A. determining the accuracy and classification of the related party transactions
B. testing the existence of the related parties
C. proper accounting for, and disclosure of, the related party transactions
D. eliminating the effects of related party transactions

41. Which of the following auditing procedures most likely would assist an auditor in identifying
related-party transactions?
A. Inspecting correspondence with lawyers for evidence of unreported contingent liabilities.
 B. Vouching accounting records for recurring transactions recorded just after the balance
sheet date.
C. Reviewing confirmations of loans receivable and payable for indications of guarantees.
D. Performing analytical procedures for indications of possible financial difficulties.

42. After determining that a related-party transaction has, in fact, occurred, an auditor should
A. Add a separate paragraph to the auditor’s standard report to explain the transaction.
B. Perform analytical procedures to verify whether similar transactions occurred, but were
not recorded.
C. Obtain an understanding of the business purpose of the transaction.
D. Substantiate that the transaction was consummated on terms equivalent to an arm’s-
length transaction.

43. Which of the following events most likely indicates the existence of related parties?
A. Making a loan without scheduled terms of repayment of the funds.
B. Discussing merger terms with a company that is a major competitor.
C. Selling real estate at a price that differs significantly from its book value.
D. Borrowing a large sum of money at a variable rate of interest.

44. Which of the following statements is correct concerning related-party transactions?

A. In the absence of evidence to the contrary, related-party transactions should be assumed
to be outside the ordinary course of business.
B. An auditor should determine whether a particular transaction would have occurred if the
parties had not been related.
C. An auditor should substantiate that related-party transactions were consummated on
terms equivalent to those that prevail in arm’s-length transactions.
 D. The audit procedures directed toward identifying related-party transactions should
include considering whether transactions are occurring, but are not being given proper
accounting recognition.

INTERNAL CONTROL

45. Inherent limitations in an entity’s internal control system include all of the following, except
a. collusion among employees
b. segregation of incompatible duties
c. the possibility of management override
d. mistakes in judgment

46. When obtaining an understanding of controls that are relevant to the audit, the auditor shall
I – evaluate design of the controls
II – determine whether they have been implemented
III – determine whether they are effective or not in preventing and/or detecting
material misstatements
a. I, II and III
b. I and II only - III is done in testing of controls; not during obtaining understanding of
internal controls
c. III only
d. II and III only

47. Which of the following does not fall within the entity’s control activities?
a. Authorization of transactions
b. Physical controls
c. Segregation of incompatible duties
d. Management philosophy and operating style - this is part of the control environment
component
48. This internal control component is the foundation for all other components. It sets the tone of
the organization, provides discipline and structure, and influences the control consciousness of
employees.
a. control activities
b monitoring of controls
c. control environment
d. the entity’s risk assessment process

49. When considering internal control, an auditor should be aware of the concept of reasonable
assurance, which recognizes that
a. Internal control may be ineffective due to mistakes in judgment and personal carelessness.
b. Adequate safeguards over access to assets and records should permit an entity to maintain
proper accountability.
c. Establishing and maintaining internal control is an important responsibility of management.
d. The cost of an entity’s internal control should not exceed the benefits expected to be derived.

50. Proper segregation of functional responsibilities calls for separation of the functions of
a. Authorization, execution, and payment.
b. Authorization, recording, and custody. - remember ARC; when it comes to control
environment remember CHOPPER
c. Custody, execution, and reporting.
d Authorization, payment, and recording.

51. Proper segregation of duties reduces the opportunities to allow any employee to be in a

position to both 
a. Journalize cash receipts and disbursements and prepare the financial statements.
b. Monitor internal controls and evaluate whether the controls are operating as intended.
c. Adopt new accounting pronouncements and authorize the recording of transactions.
d. Record and conceal fraudulent transactions in the normal course of assigned tasks.
 
52. An entity’s ongoing monitoring activities often include
a. Periodic audits by the audit committee.
b. Reviewing the purchasing function. - usually done by departmental managers
c. The audit of the annual financial statements.
d. Control risk assessment in conjunction with quarterly reviews.

53. The overall attitude and awareness of an entity’s board of directors concerning the
importance of internal control usually is reflected in its
a. Computer-based controls.
b. System of segregation of duties.
c. Control environment.
d. Safeguards over access to assets.

54. Management philosophy and operating style most likely would have a significant influence
on an entity’s control environment when
a. The internal auditor reports directly to management.
b. Management is dominated by one individual.
c. Accurate management job descriptions delineate specific duties.
d. The audit committee actively oversees the financial reporting process
55. Which of the following does not fall within the entity’s control environment?
a. Commitment to competence
b. Participation of those charged with governance
c. Communication and enforcement of integrity and ethical values
d. Information processing - this is part of control activities

56. When obtaining an understanding of an entity’s internal control, an auditor should

concentrate on the substance of controls rather than their form because
a. The controls may be operating effectively but may not be documented.
b. Management may establish appropriate controls but not enforce compliance with them.
c. The controls may be so inappropriate that no reliance is contemplated by the auditor.
d. Management may implement controls whose costs exceed their benefits.

57. After obtaining an understanding of internal control and assessing the risk of material
misstatement, an auditor decided to perform tests of controls. The auditor most likely decided
that
a. It would be efficient to perform tests of controls that would result in a reduction in planned
substantive tests.
b. Additional evidence to support a further reduction in the risk of material misstatement is not
available.
c. An increase in the assessed level of the risk of material misstatement is justified for certain
financial statement assertions.
d. There were many internal control weaknesses that could allow misstatements to enter the
accounting system.

58. Which of the following would be least likely to be regarded as a test of a control? 

a. Tests of the additions to property by physical inspection. - purpose of this is to determine the
correct ending balance of PPE; therefore, this is a substantive test rather than test of control
b. Comparisons of the signatures on cancelled checks to the authorized check signer list.
c. Tests of signatures on purchase orders.
d. Recalculation of payroll deductions. - while the auditor computes deductions, his purpose here
is more on determining the accuracy of processing, not on determining the correct amounts of
deductions.

59. Which statement is correct concerning the relevance of various types of controls to a

financial statement audit? 
a. An auditor may ordinarily ignore the consideration of controls when a substantive audit
approach is used.
b. Controls over the reliability of financial reporting are ordinarily most directly relevant to an
audit, but other controls may also be relevant.
c. Controls over safeguarding assets and liabilities are of primary importance, while controls
over the reliability of financial reporting may also be relevant.
d. All controls are ordinarily relevant to an audit.

60. Which of the following procedures concerning accounts receivable would an auditor most
likely perform to obtain evidence in support of an assessed level of control risk below the
maximum?
a. Observing an entity’s employee prepare the schedule of past due accounts receivable. - clue:
select the choice that is a test of control, rather than substantive tests (because to support a
control risk assessment that is low; you need to perform test of control. All of the other choices
are substantive tests)
b. Sending confirmation requests to an entity’s principal customers to verify the existence of
accounts receivable.
c. Inspecting an entity’s analysis of accounts receivable for unusual balances.
d. Comparing an entity’s uncollectible accounts expense to actual uncollectible accounts
receivable.
61. A procedure that involves tracing a transaction from its origination through the company’s
information systems until it is reflected in the company’s financial report is referred to as a(n)
a. Analytical analysis.
b. Substantive procedure.
c. Test of a control.
d. Walk-through.

62. Which of the following procedures would an auditor most likely perform to test controls
relating to management’s assertion about the completeness of cash receipts for cash sales at a
retail outlet?
a. Observe the consistency of the employees’ use of cash registers and tapes. - this means the
collections from customers are recorded and remitted in the cash registers
b. Inquire about employees’ access to recorded but undeposited cash.
c. Trace deposits in the cash receipts journal to the cash balance in the general ledger.
d. Compare the cash balance in the general ledger with the bank confirmation request.

63. Tracing shipping documents to prenumbered sales invoices provides evidence that
a. No duplicate shipments or billings occurred.
b. Shipments to customers were properly invoiced.
c. All goods ordered by customers were shipped.
d. All prenumbered sales invoices were accounted for.

64. Which of the following controls most likely would reduce the risk of diversion of customer
receipts by an entity’s employees?
a. A bank lockbox system. - this prevents employees from taking hold of collections from
customers; customers directly deposit their payments to the company’s depository bank
b. Prenumbered remittance advices.
c. Monthly bank reconciliations.
d. Daily deposit of cash receipts.
65. Which of the following controls most likely would assure that all billed sales are correctly
posted to the accounts receivable ledger?
a. Daily sales summaries are compared to daily postings to the accounts receivable ledger.
b. Each sales invoice is supported by a prenumbered shipping document.
c. The accounts receivable ledger is reconciled daily to the control account in the general ledger.
d. Each shipment on credit is supported by a prenumbered sales invoice.

66. Which of the following controls most likely would be effective in offsetting the tendency of
sales personnel to maximize sales volume at the expense of high bad debt write-offs?
a. Employees responsible for authorizing sales and bad debt write-offs are denied access to cash.
b. Shipping documents and sales invoices are matched by an employee who does not have
authority to write off bad debts.
c. Employees involved in the credit-granting function are separated from the sales function.
d. Subsidiary accounts receivable records are reconciled to the control account by an employee
independent of the authorization of credit.

67. Proper authorization of write-offs of uncollectible accounts should be approved in which of

the following departments?
a. Accounts receivable.
b. Credit.
c. Accounts payable.
d. Treasurer.
68. During the consideration of a small business client’s internal control, the auditor discovered
that the accounts receivable clerk approves credit memos and has access to cash. Which of the
following controls would be most effective in offsetting this weakness?
a. The owner reviews errors in billings to customers and postings to the subsidiary ledger. - this
is a compensating control that offsets the lack of segregation of duties
b. The controller receives the monthly bank statement directly and reconciles the checking
accounts.
c. The owner reviews credit memos after they are recorded.
d. The controller reconciles the total of the detail accounts receivable accounts to the amount
shown in the ledger.

69. To provide assurance that each voucher is submitted and paid only once, an auditor most
likely would examine a sample of paid vouchers and determine whether each voucher is
a. Supported by a vendor’s invoice.
b. Stamped “paid” by the check signer.
c. Prenumbered and accounted for.
d. Approved for authorized purchases.

70. Which of the following controls most likely addresses the completeness assertion for
inventory?
a. Work in process account is periodically reconciled with subsidiary records.
b. Employees responsible for custody of finished goods do not perform the receiving function.
c. Receiving reports are prenumbered and periodically reconciled. - receiving reports for
inventories received are all accounted for
d. There is a separation of duties between payroll department and inventory accounting
personnel.
71. Kappa Company uses its sales invoices for posting perpetual inventory records. Inadequate
controls over the invoicing function allow goods to be shipped that are not invoiced. The
inadequate controls could cause an
a. Understatement of revenues, receivables, and inventory.
b. Overstatement of revenues and receivables, and an understatement of inventory.
c. Understatement of revenues and receivables, and an overstatement of inventory.
d. Overstatement of revenues, receivables, and inventory.

72. In determining the effectiveness of an entity’s controls relating to the existence or occurrence
assertion for payroll transactions, an auditor most likely would inquire about and
a. Observe the segregation of duties concerning personnel responsibilities and payroll
disbursement. - this relates to existence or occurrence assertion
b. Inspect evidence of accounting for prenumbered payroll checks. - this relates to completeness
c. Recompute the payroll deductions for employee fringe benefits. - this relates to accuracy
d. Verify the preparation of the monthly payroll account bank reconciliation.

73. Which of the following controls would an entity most likely use to assist in satisfying the
completeness assertion related to long-term investments?
a. Senior management verifies that securities in the bank safe-deposit box are registered in the
entity’s name. - rights & obligations
b. The internal auditor compares the securities in the bank safe-deposit box with recorded
investments.
c. The treasurer vouches the acquisition of securities by comparing brokers’ advices with
canceled checks. - existence
d. The controller compares the current market prices of recorded investments with the brokers’
advices on file.- valuation
74. Internal control is strengthened when the quantity of merchandise ordered is omitted from the
copy of the purchase order sent to the
a. Department that initiated the requisition.
b. Receiving department.
c. Purchasing agent.
d. Accounts payable department.

75. A client erroneously recorded a large purchase twice. Which of the following internal control
measures would be most likely to detect this error in a timely and efficient manner?
a. Footing the purchases journal.
b. Reconciling vendors’ monthly statements with subsidiary payable ledger accounts. - this is
timely (monthly) and free of charge - supplies simply sends billing statements (efficient)
c. Tracing totals from the purchases journal to the ledger accounts.
d. Sending written quarterly (not timely) confirmations to all vendors.

76. Sound internal control dictates that defective merchandise returned by customers should be
presented initially to the
a. Salesclerk.
b. Purchasing clerk.
c. Receiving clerk.
d. Inventory control clerk.

77. An auditor vouched data for a sample of employees in a payroll register to approved clock
card data to provide assurance that
a. Payments to employees are computed at authorized rates.
b. Employees work the number of hours for which they are paid.
c. Segregation of duties exist between the preparation and distribution of the payroll.
d. Controls relating to unclaimed payroll checks are operating effectively.

78. Which of the following is a control that most likely could help prevent employee payroll
fraud?
a. The personnel department promptly sends employee termination notices to the payroll
supervisor. - prevents teminated employees from being included in the payroll
b. Employees who distribute payroll checks forward unclaimed payroll checks to the absent
employees’ supervisors.
c. Salary rates resulting from new hires are approved by the payroll supervisor. - - changes in
salary rates is done by personnel/human resource dept, not payroll supervisor
d. Total hours used for determination of gross pay are calculated by the payroll supervisor.

79. To minimize the opportunities for fraud, unclaimed cash payroll should be
a. Deposited in a safe-deposit box.
b. Held by the payroll custodian.
c. Deposited in a special bank account. - this is the best theoretical answer, but in real life it is
letter B
d. Held by the controller.

80. Which of the following departments most likely would approve changes in pay rates and
deductions from employee salaries?
a. Personnel.
b. Treasurer.
c. Controller.
d. Payroll.
81. A weakness in internal control over recording retirements of equipment may cause an auditor
to
a. Inspect certain items of equipment in the plant and trace those items to the accounting records.
b. Review the subsidiary ledger to ascertain whether depreciation was taken on each item of
equipment during the year.
c. Trace additions to the “other assets” account to search for equipment that is still on hand but
no longer being used.
d. Select certain items of equipment from the accounting records and locate them in the plant.

82. When there are numerous property and equipment transactions during the year, an auditor
who plans to assess control risk at a low level usually performs
a. Tests of controls and extensive tests of property and equipment balances at the end of the year.
b. Analytical procedures for current year property and equipment transactions.
c. Tests of controls and limited tests of current year property and equipment transactions. - to
suppoer a low level of control risk, the auditor performs TOC in order to enable him do less
details or limited substantive tests
d. Analytical procedures for property and equipment balances at the end of the year.

83. In general, material fraud perpetrated by which of the following are most difficult to detect?
a. Cashier.
b. Keypunch operator.
c. Internal auditor.
d. Controller.

Additional Questions:
84. In using the information on the statement of cash flows while obtaining an understanding of a
profitable, growing company, which of the following would ordinarily be least surprising to an
auditor? 
A. Decreases in accounts payable.
B. Decreases in accounts receivable.
C. Negative cash flows from investing.
D. Negative operating cash flows.

85. A company’s gross margin percentage increased in 2018. This is consistent with which of the
following occurring in 2018?
A. An increase in the tax rate.
B. An increase in units sold.
C. A decrease in the rate of commissions paid to salesmen.
D. Outsourcing of a part of the manufacturing process that resulted in no additional cost.

86. When should auditors generally assess a client’s ability to continue as a going concern?
A. Upon completion of the audit.
B. During the planning stages of the audit.
C. Throughout the entire audit process.
D. During testing and completion phases of the audit.

87. Which of the following is true?

A. Management should evaluate the auditor’s assessment of the entity’s ability to continue as
a going concern.
B. Both management and the auditor should assess the entity’s ability to continue as a going
concern simultaneously.
C. The auditor should evaluate management’s assessment of the entity’s ability to continue
as a going concern.
D. Going concern assessments will be performed only in exceptional cases.

88. When the auditor concludes there is substantial doubt about an entity’s ability to continue as
a going concern for a reasonable period of time (normally 12 months after balance sheet date), the
auditor’s responsibility is to
A. assess future conditions and events for a period of time not to exceed 12 months following
the date of the financial statements
B. determine for propriety and adequacy of note disclosures about the going concern
uncertainty
C. issue a qualified opinion or disclaimer of opinion, depending upon materiality, due to the
possible effects on the financial statements
D. issue a qualified or adverse opinion, depending upon materiality, due to the possible
effects on the financial statements

89. Which of the following audit procedures would most likely assist an auditor in identifying
conditions and events that may indicate that there could be substantial doubt about an entity’s
ability to continue as a going concern?
A. confirmation of accounts receivable from principal customers
 B. confirmation of cash in bank balances
C. review compliance with the terms of debt agreements
D. reconciliation of interest expense with debt restructuring

90. SGB, CPA, believes there is substantial doubt about the ability of XYZ Co. to continue as a
going concern for a reasonable period of time. In evaluating XYZ’s plans for dealing with the
adverse effects of future conditions and events, SGB, CPA most likely would consider, as a
mitigating factor, XYZ’s plans to
A. accelerate research and development projects related to future products
B. accumulate treasury stock at prices favorable to XYZ’s historic price range
C. purchase equipment and production facilities currently being leased
D. dispose its noncash assets to generate funds

91. Which of the following conditions or events most likely would cause an auditor to have
substantial doubt about an entity’s ability to continue as a going concern?
A. Cash flows from operating activities are negative.
B. Stock dividends replace annual cash dividends.
C. Significant related party transactions are pervasive.
D. Restrictions on the disposal of principal assets are present.

92. Which of the following conditions or events would cause an auditor to have substantial doubt
about an entity’s ability to continue as a going concern?
A. Substantial operating losses
B. Usual trade credit from suppliers is denied.
C. Arrearages in principal stock dividends are paid.
D. both a and b

93. SGB, CPA, believes there is substantial doubt about the ability of XYZ Co. to continue as a
going concern for a reasonable period of time. In evaluating XYZ’s plans for dealing with the
adverse effects of future conditions and events, SGB, CPA most likely would consider, as a
mitigating factor, XYZ’s plans to
A. obtain additional funding from shareholders and other sources
B. purchase production facilities currently being leased from a related party
C. strengthen internal controls over cash disbursements
D. all of the above

94. Which of the following audit procedures most likely would assist an auditor in identifying
conditions or events that may indicate substantial doubt about an entity’s ability to continue as a
going concern?
A. inspecting title documents to verify whether any assets are pledged as collateral
B. confirming with third parties about the details of arrangements to maintain financial support
C. reconciling the cash balance per books with the cutoff bank statement and the bank
confirmation
D. comparing the entity’s depreciation and asset capitalization policies with other entities in the
industry
95. Which of the following audit procedures would most likely assist an auditor in identifying
conditions or events that may indicate there is a substantial doubt about an entity’s ability to
continue as a going concern?
A. confirmation of bank balances
B. reconciliation of interest expense with debt outstanding
C. review compliance with the terms of the debt agreements
D. confirmation of accounts receivable with principal customers

96. All of the following are conditions or events that may significant doubt on the client’s ability
to continue as a going concern. Which is the exception?
A. Net liability or net current liability position.
B. Fixed-term borrowings approaching maturity without realistic prospects of renewal or
repayment or excessive reliance on short-term borrowings to finance long-term assets.
C. Indications of material weakness in internal control over financial reporting.
D. Negative operating cash flows indicated by historical or prospective financial statements.

Materiality = PSA 320

1. Which of the following materiality levels is calculated by multiplying a certain percentage by

the appropriate benchmark which maybe sales, total assets, or profit?
A. Overall materiality = 1% x sales
B. Tolerable error
C. Performance materiality
D. Specific materiality

2. What materiality level would be considered by the auditor to determine whether the proposed
adjustments are significant or not?
A. Overall materiality
B. Scoping materiality
C. Specific materiality
D. Performance materiality

AASC Bulletin 001 Series of 2010, “The overall materiality helps the auditor determine whether
the proposed audit adjustments are significant or not.”

3. What materiality level is used by the auditor in determining which line items in the financial
statements are to be tested?
A. Overall materiality
B. Scoping materiality
C. Specific materiality
D. Performance materiality
* Performance materiality - in order to reduce to an acceptably low level the probability that the
aggregate of is set in order to reduce to an acceptably low level the probability that the aggregate
of uncorrected & undetected misstatements in the F/S will exceed overall materiality.
uncorrected & undetected misstatements in the F/S will exceed overall materiality.
icant accounts in the FS are covered by audit testing.

4. Which of the following factors are normally considered by the auditor in determining the
appropriate benchmark for the purpose of calculating materiality?
I. Nature of the entity (e.g., nonprofit, can u use profit as profit?)
II. Laws and regulations
III. Volatility of the benchmark identified - profit is usually volatile, I might use another
benchmark
IV. Focus of the users of the F/S - to be considered
A. I, II and III only
B. I, II, III and IV
C. IV only
D. II, III and IV only

5. This level of materiality is set in order to reduce to an acceptably low level the probability that
the aggregate of uncorrected & undetected misstatements in the F/S will exceed overall
materiality.
A. Overall materiality
B. Scoping materiality
C. Specific materiality
D. Performance materiality = “buffer” (50% to 75% of overall materiality)

6. The auditor considers materiality when

I. Determining the nature, timing and extent of audit procedures.
II. Evaluating the effect of misstatements on the F/S - PSA 450.
A. I only
B. II only
C. I and II
D. Neither I nor II
REVIEW QUESTIONS (including audit sampling) - to be discussed on Oct. 25 (Tuesday)

1. One of the ways to control non-sampling risk is through

a. proper supervision and instruction of the client’s employees.
b. proper supervision and instruction of the audit team.
c. the use of attributes sampling rather than variables sampling.
d. control which ensure that the sample drawn is random and
representative.

2. The sample deviation rate equals

a. the number of deviation in the population divided by the sample
size.
b. the number of items in the population multiplied by the number of
deviations in the sample.
c. the number of deviations in the sample divided by the sample size.
d. The number of deviations in the population divided by the
population size.

3. In conducting a substantive test of an account balance, an auditor hypothesizes that no

material misstatement exists. The risk that sample results will support the hypothesis when
a material misstatement actually does exist is the risk of
a.Incorrect rejection
b.Alpha error
c. Incorrect acceptance
d. Type I error

4. If the auditor believes there is a high likelihood of significant missing permanent assets that
are still recorded on the accounting records, an appropriate procedure is to select a sample
from the assets master file and examine
a. The documents verifying their acquisition.
b. All the related journal entries.
c. The assets.

5. In assessing sample risk, the risk of incorrect rejection and the risk of assessing control risk
too high (under reliance) relate to the
a.Efficiency of the audit
b.Selection of the sample
c. Effectiveness of the audit
d. Audit quality controls
6. If the auditor decides to assess control risk at the maximum level, tests of controls are
a. not performed
b. reduced in number
c. increased in number
d. unchanged from prior planned settings

7. In auditing trading securities for proper valuation, the auditor would most likely:
a. Confirm securities held in safekeeping off the client's premises.
b. Vouch purchases and sales of securities by tracing to brokers' advices and canceled
checks.
c. Compare cost and market by reference to year end market values for selected
securities.
d. Recalculate gain or loss on disposals.

8. The process which requires the calculation of an interval and then selects the items based
on the size of the interval is
a. statistical sampling
b. random selection
c. systematic selection
d. computerized selection

9. Which of the following is not a condition that may indicate substantial doubt on the client’s
ability to continue as a going concern?
a. Negative operating cash inflow
b. Negative working capital
c. Reliance from borrowings to finance operations
d. Debt ratio of more than 99 %

10. Going concern problems of the client can be mitigated by management plans such as
a. Strengthening internal controls over financial reporting
b. Back up storage of critical files
c. Business continuity plan
d. Disposal of noncash asset for conversion to cash

11. The use of fidelity bonds protects a company from embezzlement loses and also: 
a. Minimizes the possibility of employing persons with dubious records in positions of
trust.
b. Reduces the company's need to obtain expensive business interruption insurance.
c. Allows the company to substitute the fidelity bonds for various parts of internal control.
 d. Protects employees who made unintentional errors from possible monetary damages
resulting from such errors.

12. In exercising judgment as to which risks are significant risks, the auditor shall consider
which of the following?

I. Whether the risk is a risk of fraud

II. Whether the risk is related to recent significant economic, accounting or other developments
and, therefore, requires specific attention
III. The complexity of transactions
IV. Whether the risk involves significant transactions with related parties

a. I, II and III
b. II, III and IV
c. I, III and IV
d. I, II, III and IV

13. Which of the following is not ordinarily considered a factor indicative of increased
financial reporting risk when an auditor is considering a client's risk assessment policies? 
a. Fixed-salaried sales personnel.
b. Salaries based on achieving aggressive sales targets.
c. High degree of competition resulting to shrinking profit margins
d. Corporate restructurings and complex corporate entities.
 

14. Which of the following procedures would an auditor most likely perform while evaluating
audit findings at the conclusion of an audit? 
A. Obtain assurance from the entity's attorney that all material litigation has been disclosed in the
financial statements.
B. Verify the clerical accuracy of the entity's proof of cash and its bank cutoff statement.
C. Determine whether reportable conditions have corrected.
D. Develop an estimate of the total likely misstatement in the financial statements.

15. Specific misstatement in one of a client's 2,000 accounts receivable is referred to as a(n): 

A. Extrapolation difference.
B. Known misstatement.
C. Likely misstatement.
D. Projected misstatement.
15. When performing a test of a control over cash disbursements, a CPA may use a systematic
sampling technique with a start at any randomly selected item. The biggest disadvantage of this
type of sampling is that the items in the population: 
A. Must be recorded in a systematic pattern before the sample can be drawn.
B. May occur in a systematic pattern and destroy the sample randomness.
C. May systematically occur more than once in the sample.
D. Must be systematically replaced in the population after sampling.

16. Using statistical sampling to assist in verifying the year-end accounts payable balance, an
auditor has accumulated the following data:

Using the ratio estimation technique, the auditor’s estimate of year-end accounts payable balance
would be
A. $6,150,000
B. $6,000,000
C. $5,125,000
D. $5,050,000

17. In the past, the auditors have found that the book value of a receivable account has been
related to the amount the account is misstated (i.e., large accounts have large misstatements and
small accounts have small misstatements). Which of the following techniques is most likely to be
efficient? 
A. Mean-per-unit estimation.
B. Ratio estimation.
C. Difference estimation.
D. Sequential sampling estimation.

18. In which sampling method is the probability of selection of an item proportional to the size or
value of the item (P 100,000 item is 10 times more likely to be selected than a P 1,000 item)?
A. Discovery sampling
B. Ratio estimation
C. Value weighted sampling
D. Stratified sampling

19. If the auditor is concerned that a population may contain exceptions, the determination of a
sample size sufficient to include at least one such exception is a characteristic of
A. Discovery sampling.
B. Variables sampling.
C. Random sampling.
D. Dollar-unit sampling.

19. An auditor plans to examine a sample of twenty purchase orders for proper approvals as
prescribed by the client’s control procedures. One of the purchase orders in the chosen sample of
twenty cannot be found, and the auditor is unable to use alternative procedures to test whether
that purchase order was properly approved. The auditor should
A. Choose another purchase order to replace the missing purchase order in the sample.
B. Consider this test of control invalid and proceed with substantive tests since internal control
cannot be relied upon.
C. Treat the missing purchase order as a deviation for the purpose of evaluating the sample.
D. Select a completely new set of twenty purchase orders.

20. An auditor is testing internal control procedures that are evidenced on an entity’s vouchers by
matching random numbers with voucher numbers. If a random number matches the number of a
voided voucher, that voucher ordinarily should be replaced by another voucher in the random
sample if the voucher
A. Constitutes a deviation.
B. Has been properly voided.
C. Cannot be located.
D. Represents an immaterial dollar amount.

21. For which of the following audit tests would an auditor most likely use attribute sampling?
A. Making an independent estimate of the amount of a FIFO inventory.
B. Examining invoices in support of the valuation of fixed asset additions.
C. Selecting accounts receivable for confirmation of account balances.
D. Inspecting employee time cards for proper approval by supervisors.

26. Which of the following is not a likely item on which to apply stratification techniques?
A. Aging of accounts receivable
B. Dollar value of accounts receivable
C. Customer names of account receivables
D. Number of sales per customer in a period

25. The expected population deviation rate of client billing errors is 3%. The auditor has
established a tolerable rate of 5%. In the review of client invoices the auditor should use
A. Stratified sampling.
B. Variable sampling.
C. Discovery sampling.
D. Attribute sampling.
26. An auditor suspects that certain client employees are ordering merchandise for themselves
over the Internet without recording the purchase or receipt of the merchandise. When vendors'
invoices arrive, one of the employees approves the invoices for payment. After the invoices are
paid, the employee destroys the invoices and the related vouchers. In gathering evidence
regarding the fraud, the auditor most likely would select items for testing from the file of all 
A. Cash disbursements.
B. Approved vouchers.
C. Receiving reports.
D. Vendors' invoices.

27. An auditor performs a test to determine whether all merchandise for which the client was
billed was received. The population for this test consists of all: 
A. Merchandise received.
B. Vendor's invoices.
C. Canceled checks.
D. Receiving reports.

28. The process of dividing a population into subpopulations, each of which is a group of
sampling units which have similar characteristics (often monetary value) is
A. Division C. Grouping
B. Stratification D. Characterization

29. When compared to an audit performed prior to 1900, an audit today: 

a. Is more likely to include tests of compliance with laws and regulations.
b. Is less likely to include consideration of the effectiveness of internal control.
c. Has bank loan officers as the primary financial statement user group.
d. Includes a more detailed examination of all individual transactions.
30. Which of the following circumstances would an auditor most likely consider a risk
factor relating to misstatements arising from fraudulent financial reporting? 
a. Several members of management have recently purchased additional shares of the
entity's stock.
b. Several members of the board of directors have recently sold shares of the entity's
stock.
c. The entity distributes financial forecasts to financial analysts that predict conservative
operating results.
d. Management is interested in maintaining the entity's earnings trend by using
aggressive accounting practices.

31. Which of the following statements is correct regarding the auditor's determination of
materiality? 
a. The planning level of materiality should normally be the larger of the amount
considered for the balance sheet versus the income statement.
b. The auditors' planning level of materiality may be disaggregated into smaller "tolerable
misstatements" for the various accounts.
c. Auditors may use various rules of thumb to arrive at an evaluation level of materiality,
but not for determining the planning level of materiality.
d. The amount used for the planning should equal that used for evaluation.

32. Which of the following is least likely to render material a quantitatively small

misstatement material? 
a. Affects the registrant's compliance with regulatory requirements.
b. Masks a change in earnings or other trends.
c. Arises from an item not capable of precise measurement.
d. The transaction involves a related party.

33. With properly designed internal control, the same employee should not be permitted
to: 
a. Sign checks and cancel supporting documents.
b. Receive merchandise and prepare a receiving report.
c. Approve write offs of receivable and make collections from customers.
d. Initiate a request to order merchandise and approve merchandise received.
34. Changes in capital stock accounts should normally be approved by: 
a. The board of directors.
b. The audit committee.
c. The stockholders.
d. The president.

35. Internal control over bonds payable is best when: 

a. The company utilizes the services of a bond trustee.
b. The company segregates approval from issuance of the bonds.
c. Bonds are countersigned by two officers.
d. Bonds are serially numbered.

36. Which of the following is a responsibility that should not be assigned to only one
employee?
a. Access to securities in the company’s safe deposit box.
b. Custodianship of the cash working fund.
c. Reconciliation of bank statement.
d. Custodianship of tools and small equipment.

37. An auditor is least likely to test controls that provide for

a. Classification of revenue and expense transactions by product line

b. Approval of the purchase and sale of trading securities
c. Segregation of the functions of recording disbursements and reconciling the bank
account
d. Comparison of receiving reports and vendors’ invoices with purchase orders

38. Internal control over marketable securities is enhanced when: 

a. Securities are held by the cashier.
b. Securities are registered in the name of the custodian.
c. Detailed records of securities are maintained by the custodian of the securities.
d. Securities are held under joint control of two or more officials.
39. Property acquisitions that are misclassified as maintenance expense would most likely
be detected by an internal control system that provides for: 
a. Investigation of variances within a formal budgeting system.
b. Review and approval of the monthly depreciation entry by the plant supervisor.
c. Segregation of duties of employees in the accounts payable department.
d. Examination by the internal auditors of vendor invoices and canceled checks for
property acquisitions.

40. Which of the following is not a control that should be established for purchases of
equipment? 
a. Establishing a budget for capital acquisitions.
b. Requiring that the department in need of the equipment order the equipment.
c. Requiring that the receiving department receive the equipment.
d. Establishing an accounting policy regarding the minimum dollar amount of purchase
that will be considered for capitalization.

41. Which of the following is an internal control weakness for a company whose inventory
of supplies consists of a large number of individual items? 
a. Supplies of relatively little value are expensed when purchased.
b. The cycle basis is used for physical counts.
c. The storekeeper is responsible for maintenance of perpetual inventory records.
d. Perpetual inventory records are maintained only for items of significant value.

AUDIT SAMPLING

1. The risk that the auditor’s conclusion based on a sample may be different from the conclusion
if the entire population were subjected to the same audit procedure is
A. Sampling risk
B. Audit risk
C. Non-sampling risk
D. Detection risk

2. Sampling risk is an inherent part of sampling that results from

A. Inappropriate audit procedures
B. Failure to properly plan the audit
C. Testing less than the entire population
D. Weaknesses in the internal control system

3. Which of the following does not constitute non-sampling risk?

A. Use of inappropriate audit procedures
B. Misinterpretation of audit evidence
C. Failure to recognize a misstatement or deviation
D. Failure of a sample to represent the population

4. One way to reduce sampling risk is to

A. Carefully design the audit procedures to be used
B. Provide for proper planning and supervision of audit staff
C. Use an appropriate method of selecting sample items from the population
D. Use variables sampling rather than attributes sampling

5. The decision whether to use statistical or non-statistical sampling depends upon the
A. Philippine Standards on Auditing C. Size of the population
B. Auditor’s judgment D. Generally Accepted Auditing Standards

6. Audit sampling for substantive tests is appropriate when

A. Analytical procedures are used
B. The population contains small but large value items
C. The auditor wants to eliminate sampling risk
D. Tests of details are performed

7. Audit sampling for tests of control is generally appropriate when

A. The control leaves evidence of performance
B. The control is not effective
C. 100 % of the transactions is tested
D. The control leaves no evidence of performance

8. There are many kinds of statistical estimates that an auditor may find useful, but basically
every statistical estimate in auditing is of either a quantity or of an error rate. The statistical terms
that roughly correspond to "quantities" and "occurrence rate", respectively, are: 
A. Attributes and variable.
B. Variables and attributes.
C. Constants and attributes.
D. Constants and variables.

9. An advantage of using statistical sampling is that such techniques

A. Eliminate the need for professional judgment
B. Defined the value of reliability necessary to provide audit assurance
C. Mathematically measure sampling risk
D. Eliminate sampling risk

10. Statistical sampling does not allow

A. More efficient samples
B. Measurement of sample reliability
C. Replacement of auditor’s professional judgment
D. Measurement of sampling risk
11. Statistical sampling cannot
A. Determine reliability of samples
B. Select a sample to draw inference about a population
C. Assure a sample will be representative of a population
D. Measure the risk that a sample is not representative of a population

12. A rate of deviation from prescribed internal control procedures set by the auditor in respect
of which the auditor seeks to obtain an appropriate level of assurance that the rate of deviation
set by the auditor is not exceeded by the actual rate of deviation in the population is
A. Tolerable misstatement C. Anomaly
B. Tolerable rate of deviation D. Expected misstatement

13. Sampling risk that leads the auditor to conclude that controls are more effective than they
actually are is
A. Risk of assessing control risk too low C. Risk of incorrect rejection
B. Risk of assessing control risk too high D. Risk of incorrect acceptance

14. Sampling risk that leads the auditor to conclude that a material misstatement exists when in
fact it does not is
A. Risk of assessing control risk too low C. Risk of incorrect rejection
B. Risk of assessing control risk too high D. Risk of incorrect acceptance

15. Of the four erroneous conclusions from a sampling risk, the auditor is primarily concerned
with
A. Risk of assessing control risk too low C. Risk of incorrect rejection
B. Risk of assessing control risk too high D. Risk of incorrect acceptance

16. Which of the following types of risk is of critical importance to auditors in performing tests
of controls? 
A. The risk of assessing control risk too low.
B. The risk of assessing control risk too high.
C. The risk of incorrect acceptance.
D. The risk of incorrect rejection.

17. Which of the following combinations results in a decrease in sample size for attributes?

Acceptable sampling Tolerable Expected population

risk deviation rate deviation rate
A. Increase Decrease Increase
B. Decrease Increase Decrease
C. Increase Increase Decrease
D. Increase Increase Increase
18. The process of dividing a population into subpopulations, each of which is a group of
sampling units which have similar characteristics (often monetary value) is
A. Division C. Grouping
B. Stratification D. Characterization

19. How would increases in tolerable misstatement and assessed level of control risk affect the
sample size in a substantive test of details?

Increase in tolerable misstatement Increase in assessed level of control risk

A. Increase sample size Increase sample size
B. Increase sample size Decrease sample size
C. Decrease sample size Increase sample size
D. Decrease sample size Decrease sample size

20. An auditor wishes to estimate inventory shrinkage by weighing a sample of inventory items.
From experience, the auditor knows that a few specific items are subject to unusually large
amounts of shrinkage. In using statistical sampling, the auditor's best course of action is to: 
A. Eliminate any of the items known to be subject to unusually large amounts of shrinkage.
B. Increase the sample size to lessen the effect of the items subject to unusually large amounts of
shrinkage.
C. Stratify the inventory population so that items subject to unusually large amounts of shrinkage
are reviewed separately.
D. Continue to draw new samples until a sample is drawn which includes none of the items
known to be subject to large amounts of shrinkage.

21. An advantage of using statistical over non-statistical sampling methods in tests of controls is
that the statistical methods
A. Can more easily convert the sample into a dual-purpose test useful for substantive testing
B. Eliminate the need to use judgment in determining appropriate sample sizes
C. Afford greater assurance than a non-statistical sample of equal size
D. Provide an objective basis for quantitatively evaluating sample risk

Items 22 and 23 are based on the following information:

The diagram below depicts the auditor’s estimated deviation rate compared with the tolerable
rate, and also depicts the true population deviation rate compared with the tolerable rate.
22. In which of the situations would the auditor have properly concluded that control risk is at or
below the planned assessed level?
A. I.
B. II.
C. III.
D. IV.

23. As a result of tests of controls, the auditor assesses control risk too high and thereby
increases substantive testing. This is illustrated by situation
A. I.
B. II.
C. III.
D. IV.

24. The expected population deviation rate of client billing errors is 3%. The auditor has
established a tolerable rate of 5%. In the review of client invoices the auditor should use
A. Stratified sampling.
B. Variable sampling.
C. Discovery sampling.
D. Attribute sampling.

25. Which of the following is not a likely item on which to apply stratification techniques?
A. Aging of accounts receivable
B. Dollar value of accounts receivable
C. Customer names of account receivables
D. Number of sales per customer in a period

26. For which of the following audit tests would an auditor most likely use attribute sampling?
A. Making an independent estimate of the amount of a LIFO inventory.
B. Examining invoices in support of the valuation of fixed asset additions.
C. Selecting accounts receivable for confirmation of account balances.
D. Inspecting employee time cards for proper approval by supervisors.

27. Which of the following statistical selection techniques is least desirable for use by an
auditor?
A. Systematic selection.
B. Stratified selection.
C. Block selection.
D. Sequential selection.

28. In statistical sampling methods used in substantive testing, an auditor most likely would
stratify a population into meaningful groups if
A. The population has highly variable recorded amounts
B. Value-weighted sampling is used
C. The auditor’s estimated tolerable misstatement is extremely small
D. The standard deviation of recorded amounts is relatively small

29. What is the primary objective of using stratification as a sampling method in auditing?
A. To increase the confidence level at which a decision will be reached from the results of the
sample selected.
B. To determine the occurrence rate for a given characteristic in the population being studied.
C. To decrease the effect of variance in the total population.
D. To determine the precision range of the sample selected.

30. As a result of tests of controls, an auditor assessed control risk too low and decreased
substantive testing. This assessment occurred because the true deviation rate in the population
was
A. Less than the risk of assessing control risk too low, based on the auditor’s sample.
B. Less than the deviation rate in the auditor’s sample.
C. More than the risk of assessing control risk too low, based on the auditor’s sample.
D. More than the deviation rate in the auditor’s sample.

31. An auditor is testing internal control procedures that are evidenced on an entity’s vouchers by
matching random numbers with voucher numbers. If a random number matches the number of a
voided voucher, that voucher ordinarily should be replaced by another voucher in the random
sample if the voucher
A. Constitutes a deviation.
B. Has been properly voided.
C. Cannot be located.
D. Represents an immaterial dollar amount.

32. An auditor plans to examine a sample of twenty purchase orders for proper approvals as
prescribed by the client’s control procedures. One of the purchase orders in the chosen sample of
twenty cannot be found, and the auditor is unable to use alternative procedures to test whether
that purchase order was properly approved. The auditor should
A. Choose another purchase order to replace the missing purchase order in the sample.
B. Consider this test of control invalid and proceed with substantive tests since internal control
cannot be relied upon.
C. Treat the missing purchase order as a deviation for the purpose of evaluating the sample.
D. Select a completely new set of twenty purchase orders.

33. In which sampling method is the probability of selection of an item proportional to the size or
value of the item (P 100,000 item is 10 times more likely to be selected than a P 1,000 item)?
A. Discovery sampling
B. Ratio estimation
C. Value weighted sampling
D. Stratified sampling

34. If the auditor is concerned that a population may contain exceptions, the determination of a
sample size sufficient to include at least one such exception is a characteristic of
A. Discovery sampling.
B. Variables sampling.
C. Random sampling.
D. Dollar-unit sampling.

35. What is an auditor’s evaluation of a statistical sample for attributes when a test of fifty
documents results in three deviations if tolerable rate is 7%, the expected population deviation
rate is 5%, and the allowance for sampling risk is 2%?
A. Modify the planned assessed level of control risk because the tolerable rate plus the allowance
for sampling risk exceeds the expected population deviation rate.
B. Accept the sample results as support for the planned assessed level of control risk because the
sample deviation rate plus the allowance for sampling risk exceeds the tolerable rate.
C. Accept the sample results as support for the planned assessed level of control risk because the
tolerable rate less the allowance for sampling risk equals the expected population deviation rate.
D. Modify the planned assessed level of control risk because the sample deviation rate plus the
allowance for sampling risk exceeds the tolerable rate.

36. In the past, the auditors have found that the book value of a receivable account has been
related to the amount the account is misstated (i.e., large accounts have large misstatements and
small accounts have small misstatements). Which of the following techniques is most likely to be
efficient? 
A. Mean-per-unit estimation.
B. Ratio estimation.
C. Difference estimation.
D. Sequential sampling estimation.

37. Using statistical sampling to assist in verifying the year-end accounts payable balance, an
auditor has accumulated the following data:
Using the ratio estimation technique, the auditor’s estimate of year-end accounts payable balance
would be
A. $6,150,000
B. $6,000,000
C. $5,125,000
D. $5,050,000

38. Use of the ratio estimation sampling technique to estimated dollar amounts is inappropriate
when
A. The total book value is known and corresponds to the sum of all the individual book values.
B. A book value for each sample item is unknown.
C. There are some observed differences between audited values and book values.
D. The audited values are nearly proportional to the book values.

38.  If the projected misstatement in a nonstatistical sampling is $8,000, while the tolerable
misstatement is $8,100, what would an auditor likely conclude? 
A. Since the projected misstatement is less than the tolerable misstatement, the account is not
misstated.
B. Since the projected misstatement is less than the tolerable misstatement, the account is
misstated.
C. The risk is high that the account is materially misstated.
D. The analysis has been improperly performed since the projected misstatement is unequal to
the tolerable misstatement.